Financial information is essential for effective control of the company

To achieve effective financial management, all company areas should use and provide data to obtain thorough knowledge of business operations. One of the main roles of the financial manager is to analyze the data and transform it into useful information so that the different corporate areas can evaluate performance against projections, and on this basis make decisions to correct or improve corporate strategy objectives.

The Inter-American Investment Corporation (IIC) recommends that companies maintain detailed information on several key aspects for successful financial management. For example, business should keep at least the following financial statements such as cash flow statements, inventories, and accounts payable and receivable to have control of the financial management. 

Financial statements and ratios illustrate key aspects of the performance of any company. This information is not only relevant to creditors and prospective investors but also to the company’s management.  

Comparing these figures and trends with that of competing companies can be a key aspect for defining general corporate strategy. In many cases, a careful analysis of financial indicators can determine the risks or viability of the enterprise over the long term.

Financial Statements: these reports provide greater insight into the company’s financial position. The balance sheet and the income statement are the basic accounting reports for any business from small and medium enterprises (SMEs) to the large multinationals worldwide. These reports give us a glimpse of the company’s financial position at a specific period.  

The income statement compares income generated throughout a period of time against cost incurred during the same period. It is important to distinguish between gross income (sales income minus the cost of goods sold) and net income (gross income minus expenses for sales, distribution, management, etc.) If costs exceed income, the company incurred loss during that period.

Indicators and financial ratios: the balance sheet and income statement contain several indicators and ratios that serve as tools to aid the financial manager throughout the decision-making process. They are also used by creditors and investors to detect the feasibility and risks of investing in or granting credit to a company. Below follow the main indicators that enhance financial management and knowledge of any company.

• Profitability ratios:

Gross profit margin = net sales / cost of goods sold 

This ratio illustrates the company’s gross profits for each dollar sold, after deducting costs. This generates a ratio that is used to compare the company’s performance against others in the same industry. A gross margin lower than the average indicates a problem of excessive variable costs or prices.

Net profit margin = net sales profit / net sales

This indicator shows the profit obtained for each sales unit, minus the direct sales costs in variable costs. It is used when there are several distribution centers to determine which center is more productive or which product is more profitable, which means that it is possible to compute per department, per product or per area or distribution center.

• Liquidity ratios:

Liquidity ratio = current assets / current liabilities

Liquidity ratios measure the company’s ability to pay short-term debts. It measures assets that are readily convertible to cash, i.e. working capital, and able to cover creditors’ rights in the short term.

Accounts receivable turnover ratio = debtors / credit sales x 365 (customers who owe the business)

Portfolio turnover is used to calculate the number of times that average receivables are turned over during a specific period of time, generally one year. It indicates the velocity of a company’s debt collection.

Accounts payable turnover ratio = creditors / credit purchases x 365 (creditors are suppliers that the business must pay)

This ratio shows how long a company takes in paying its suppliers. The higher the ratio, the longer it takes.